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BUY TO COVER Wachovia (WB)

Amid the sturm and drang of the bailout vote and the market crash after the U.S. House decided “no,” an important subplot today was the demise of Wachovia (WB), the fourth-largest USA bank, shares of whom we have been short intermittently since last November.

Although WB stock traded as high as $24/share intraday just ten days ago on misplaced optimism, it became evident over the weekend that the weight of the toxic paper WB acquired when they purchased Golden West two years ago—compounded by bad loans and other inauspicious financial transactions the company made on their own—were dragging Wachovia into insolvency. Following emergency weekend negotiations, Wachovia issued a joint announcement with Citibank (C) this morning detailing an agreement for C to purchase WB’s retail bank, corporate and investment bank, and wealth management businesses for $2.1B.

As part of the transaction, Citibank will assume Wachovia’s $53B in senior and subordinated debt. Citi will acquire more than $700B of assets of Wachovia’s banking subsidiaries, and related liabilities. The catalyst for the deal is a government guarantee (reportedly U.S. Treasury officials inveigled Citibank to participate in the negotiations). The Federal Deposit Insurance Corporation (FDIC) has agreed to provide loss protection in connection with approximately $312B of mortgage-related and other Wachovia assets. Citibank is responsible for the first $42B in losses; the U.S. Treasury is responsible for anything beyond that. U.S. taxpayers get $12B in preferred stock.

WB will be left with their minor player brokerage business and their Evergreen Asset Management subsidiary. The deal was announced just before the market opened and it was unclear how investors would value the remaining Wachovia entity. The stock opened at $1.26—down from the $10 close last Friday—and rose as high as $5 before crashing down with the rest of the market following the failed bailout vote, sinking as low as one cent(!!) before settling at $1.84.

Wish we had been nimble enough to score that one cent price, but with the effective demise of Wachovia here, there’s no reason to maintain this short position, and we are putting in a buy-to-cover limit order for tomorrow at $3.68 (twice today’s close). This will result in us covering our short position if WB opens at or below $3.68 tomorrow. If it opens higher, then we will still cover if it trades at or below $3.68 during the day tomorrow. If our position is still open after trading closes tomorrow, then we will reconsider what to do after the close.